There has been a precipitous change in employee, customer, shareholder, and community expectations as to how corporations are governed. Specifically, these groups are calling for increased transparency around how companies address environmental, social, and governance (ESG) issues such as climate risk, employee wage growth, job insecurity, and diversity and inclusion.
BlackRock and State Street Global Advisors, for example, have stated that they may vote against directors of companies that they don’t believe are responsive on these issues. And since the Business Roundtable issued its Statement on the Purpose of a Corporation, several boards have received shareholder proposals asking how their companies are factoring the interests of all stakeholders into efforts to create long-term value.
As expectations for oversight of ESG issues evolve, lead directors have a role to play in guiding discussions on ESG, corporate purpose, and the implications for their companies. We suggest lead directors focus on three areas.
Level setting. It is critical that the board and management are aligned on what ESG means for the company, including the three to five major environmental and social issues that, in the near and long term, could materially affect the value of the enterprise (i.e., relevant ESG), and how management is addressing these issues and communicating the company’s efforts to stakeholders. In our experience, directors approach ESG from a variety of viewpoints. The lead director should know where each director stands on the relevant ESG issues and where there is consensus, if any, as a board. The lead director can also help determine if the board needs additional education on relevant ESG issues, whether through presentations by management or outside experts, or through educational programs.
Agenda and strategy. The board should understand management’s view of long-term shareholder value and the company’s strategy for creating it. The lead director should confer with the CEO about how relevant ESG issues are integrated into strategy and operations. Consideration should be given to where, if at all, these issues appear on board agendas. While initially it may be appropriate to discuss these as stand-alone issues, we believe that over time relevant ESG issues should be integrated into strategy discussions.
The lead director can also work with the board committee chairs to determine the role of each committee in overseeing ESG and related stakeholder issues. For example, the audit committee may help reassess whether certain processes and controls support the company’s reporting and disclosures in this area as that report-ing evolves. For the compensation committee, can the company clearly articulate how its pay practices encourage long-term value creation, motivate employees, and help the company attract and retain the right talent throughout the organization? How does the company measure success and determine appropriate performance targets? For the nominating and governance committee, does the company have the right talent in the boardroom to oversee these issues?
Given the heightened investor and stakeholder attention to ESG issues, boards should also encourage their management teams to reassess the scope and quality of the company’s ESG reports and disclosures.
Stakeholder engagement. Shareholder and stakeholder engagement will be increasingly important. The lead director has a role in helping ensure that the company is effectively communicating its ESG and stakeholder commitments. Do management and the board have the right players to engage with stakeholders on these issues? Speaking with one voice is essential. Whether or not the company was a signatory to the Business Roundtable’s statement, the board should understand whether and how the company is implementing the statement’s principles, as well as the board’s role in engaging directly with shareholders on ESG and corporate purpose.
This article originally appeared in the May/June 2020 issue of NACD Directorship magazine.